As Saudi Arabia moves ahead with plans to open up the domestic capital markets to global investors, it is very likely that the kingdom will be seriously considered for an inclusion in various emerging markets indices, said an industry expert.

Any new inclusion in an emerging markets index usually takes place after a review period following the formal opening up and the process in the case of Saudi Arabia is unlikely to be any different, added Sachin Mohindra, the portfolio manager for Invest AD’s SICAV GCC Focus Fund.

Mohindra discusses Saudi Arabia’s recent plans to open up the domestic capital markets to global investors in the latest Markets Outlook Middle East & Africa markets bulletin:  September 2014 released by Invest AD, a unique financial services company offering institutional investors access to high-growth opportunities in frontier and emerging markets, specialising in Africa and the Middle East:

1. What has the Saudi regulator said about opening up, and when is this likely to happen?

Saudi Arabia’s Council of Ministers has approved the opening of the Saudi Arabian market for foreign access and has mandated the Saudi regulator, the Capital Market Authority, to develop detailed guidelines and eligibility criteria. The Capital Market Authority announced a draft version of the guidelines and eligibility criteria for foreign access on August 21.

We believe that the Saudi regulator will now start a process of consultation with a number of concerned parties and will announce the final detailed guidelines over the next few months. It is widely expected that qualified foreign investors will be able to buy equities directly in the first half of 2015.

2. How are global investors viewing this development? Will the Saudi market be immediately included in the MSCI Emerging Markets index?

The initial reaction of global and regional investors has been positive. The opening up of the Saudi market provides global emerging market investors with another option to deploy capital. Saudi Arabia is not only the GCC’s largest economy and equity market, but it is also home to a number of well-managed and profitable companies.

It is very likely that Saudi Arabia will be seriously considered for an inclusion in various emerging markets indices once its market is open to foreign investors. Any new inclusion in an emerging markets index usually takes place after a review period following the formal opening up and the process in the case of Saudi Arabia is unlikely to be any different. The exact weight would really be a function of detailed access guidelines, which will be in force at that time.

3. How will opening up affect the Saudi market, and the listed companies? Will there be any impact on the wider GCC/Mena investment arena?

We believe that the opening up of the Saudi market will, over a period of time, result in greater institutionalization of the market. This will lead to greater market maturity and a more efficient price discovery mechanism for listed equity securities. Saudi companies looking to access growth capital will gain access to a far larger and deeper pool of capital. Institutionalization of the market will lead to a more efficient price discovery mechanism, and this in turn will result in the optimal market valuations of companies.

Companies will benefit from these optimal valuations based on fundamentals when planning for growth capital, mergers, and acquisitions and will also be able to make better capital structure related decisions. Greater institutional investor participation in the long term will also help companies to improve their own governance standards and result in a lot of qualitative benefits. The impact on the wider GCC and Mena region will be positive in the long run.

The opening up of the region’s largest market will result in greater focus on the region by large global investors. This move will encourage a number of these investors to research companies in the broader region. It will result in higher incremental flows into the region as a whole.

4. What are the opportunities and risks of investing in the Saudi market?

The main opportunity for investors is being able to buy undervalued companies in a growing market. As for risks, the market is no different than any other emerging or frontier market, and therefore investors will need to be wary of disclosure, volatility, and the dominance of retail traders.

5. Which sectors do you like in Saudi Arabia at the moment, and why? How do Saudi valuations compare to regional and global emerging markets at the moment?

Invest AD is a stock picker asset manager, and our focus is to find undervalued companies across all markets that we cover. A number of well managed companies in Saudi Arabia quote at a discount to their fundamental values.

The focus for our long-term global investors will be to identify and invest in such companies. Broad market valuations are secondary criteria for a bottom-up investor. Having said this, Saudi valuations of 16X forward PE do not look very expensive if one factors in the earnings growth that is likely to be generated over the next few years. – TradeArabia News Service